Friday, August 13, 2010

More Detail on the Proposed BOE Act - Part Three

Note:This is the third part of a series filling in details of the Proposed Bank of England Act on which I posted seven articles here from July 31st to August 3rd. Bill Totten

Distributing Newly Created Money

Once the newly created money has been added to the government's Central Government Account, the government is free to use this money however it chooses in order to achieve its democratically-mandated policy objectives. Therefore the government may choose to:

(a) pay down the national debt

(b) increase government spending

(c) reduce the overall tax burden

(d) make direct payments to citizens

The exact mix of the above will depend on the priorities of the government of the day. Since the newly created money will simply be added to tax revenue, there is no need for a special process to decide how to spend it. If the public have elected a government that promises to increase public spending, then the government can justifiably use the money for this purpose. Likewise, if the public elected a government that promised to reduce the overall tax take, then the government can use the money to this end.

We will now look at each of the options above in more detail.

Paying Down the National Debt

We believe that it is in the public interest for the 'national' (that is, government) debt, to be phased out, or at least reduced to within five per cent of the nation's GDP. Over time, the government would likely use a proportion of the newly created money to gradually pay off the debt.

By using the newly-created money to increase government spending, the government can increase the provision or quality of public services such as education, health care or public transport, without increasing the tax burden on the public. Decisions on exactly how the newly-created money is spent would fall to the democratically elected government of the day.

Although the money has not been raised via taxation and therefore doesn't 'cost' anything at this point, it still has a massive 'opportunity cost' - if the government chooses to use the money to build a Millennium Dome, the same money can't be spent to build five large hospitals or a couple of hundred schools.

Consequently the government has a public duty to ensure that the newly-created money is spent on the projects that will bring the greatest benefit to society as a whole.

Reduction of the Overall Tax Burden

Rather than increasing government spending, the elected government of the day could choose to reduce the overall tax burden. As total government spending is currently around the GBP 857 billion mark, and the money supply has been inflated by near GBP 200 billion every year for the last few years, the potential reduction of the overall tax burden could be as much as 33%, depending on how much money the Monetary Policy Committee decides is it is necessary to create in any one year.

The tax burden could be reduced in one of two ways (or a combination of both):

* through maintaining the current tax regime but redistributing the newly-created money back to the public via tax rebates (payments) after the year's taxes have been received

* by actually reducing the rates of tax charged on income, VAT, corporation tax, National Insurance, et cetera, therefore collecting less money from taxation. They would then make up the shortfall with the newly-created money.

Direct Payments to Citizens

One alternative to both increasing public spending and reducing taxes is to make direct payments to citizens. If the amount of newly-created money in a particular year was GBP 200 billion, a direct payment of GBP 4,444 could be made to every eligible voter (regardless of income).

There are some significant advantages to this - the most democratic way of spending newly-created money is to give every single citizen power over how to spend their share. It would also reduce the risk of the newly-created money being spent inefficiently by central government.

In addition, this 'basic income' or 'Citizen's Dividend' could coincide with the complete removal of Job Seekers Allowance (the benefit paid to the unemployed). Job Seekers Allowance is currently between GBP 50 and GBP 64.30 per week, and is funded through 'transfer payments' - in other words, taking money from one group of people to pay another. Removing this completely, but paying a 'basic income' to every citizen regardless of income or working status would leave the unemployed better off (at GBP 85.46 per week on the figures above). This basic income would also be paid regardless of the person's income, removing the 'benefits trap' (whereby under the current benefits regime, getting a job can actually reduce your income). It would mean that every hour worked would increase the person's income, giving people a positive incentive to find productive labour.

Before complaints about 'benefits scroungers' are made, it is worth remembering that everyone who is a full citizen over the voting age would receive this money, regardless of income or working status. It would be up to each individual to decide whether that GBP 4,444 is used to allow them to work part-time, stay at home with the kids, work for a charity voluntarily, not work at all, take a few months off work to train for a career change, buy a new sofa or conservatory for the house, or blow the lot on champagne in a trendy City bar. It would allow everyone the freedom to take time off to find a better or more suitable job. It would allow new mothers to take more maternity leave at no cost to the employer. It would allow parents to take the school summer holidays as a sabbatical, without costing their employer anything. (In fact, this may be a win-win for the employer too, by allowing them to reduce their staff costs in the typically quiet summer months).

It's also important to remember that someone who chooses not to work is still valuable to the economy as a customer with spending power.

This is a big discussion that often falls under the banner of 'basic income' or 'citizen's dividends'. It is not integral or essential to this particular reform, and is mentioned here simply to alert people to the possibilities. However, under the existing regime, such an idea would be impossible, as any basic income would need to be raised through taxation, and would therefore simply involve redistributing income, and have no benefit on the economy. In contrast, after the reform it would be possible for this basic income to be funded via the newly created money at no cost to anyone.

As with reducing taxes and increase public spending, direct payments to citizens is just one option that the democratically elected government could choose to take. This reform simply dictates how - and by whom - money is to be created, and although we have made recommendations above as to how the newly created money should be spent, the final decision will always be taken by the democratically elected government of the day.

Our Recommendations

The current staggering level of household and corporate debt is a consequence of the debt-based monetary system that we have had in place for the last few hundred years. Once we stop issuing all new money as debt, the first priority should be to reduce our overall debt burden (at a household, corporate and government level) back to a 'healthy', natural level.

Consequently, our personal recommendation is that in the five to eight years following the implementation of the reform, the newly-created money should not be used to increase government spending. Instead, government spending should remain flat, avoiding the impending cuts to public services but with no major new spending projects.

The money should then be used as much as possible to reduce the overall tax burden, ideally by twenty to 25 per cent, by actually reducing tax rates and allowing the public to keep and spend more of their income. This will leave people with around twenty per cent more disposable income, which - considering the highly indebted state of the vast majority of households right now - will be used to pay off debts, credit cards, personal loans and mortgages.

In short, we would reduce the tax burden to allow citizens to pay down their own debts. At the same time, if part of the tax reduction falls on employer's National Insurance contributions, or on VAT, then companies will themselves be able to reduce their debts.

It could be made explicit that this would be a five to eight year partial 'tax holiday', with taxes to rise at the end of it. However, it would be for the elected government of the day to decide if it wanted to raise taxes again to previous levels, or half-way, or keep taxes at the reduced level.

There is a practical consideration involved in this suggestion too. In the current environment, it is hard to believe that any UK government will have the capacity to successfully engage in big infrastructure projects over the next few years, whilst simultaneously battling the after-shocks of the financial crisis and also implementing this reform. If they tried to, it is likely that much of the money would be wasted. As a result, the stimulus from using the newly-created money to increase spending would come later, and be less effective, than a direct stimulus from reducing taxes. When the economy has stabilised, the overall level of debt has fallen significantly, and the banking system has adapted to this new financial regime - in other words, when things are less 'hectic' - the government could then look at using the newly-created money for public infrastructure projects.